As you're comparing health insurance options and other benefits during open enrollment, don't forget about health savings accounts.
An HSA is a tax-advantaged account that lets you set aside money for out-of-pocket medical expenses. To qualify for an HSA, you'll need to be enrolled in a high-deductible health plan. If your plan has a deductible of at least $1,400 for an individual or $2,800 for a family, it's considered an HDHP.
About 63 million people, or about 1 in 5 Americans in their 30s, were covered by an HSA at the end of 2020 and use them, according to estimates by Devenir and the American Bankers Association's Health Savings Account Council in June.
If you qualify for an HSA and leverage it the right way, it can help you build wealth over the long term, says physician-turned-financial-advisor Carolyn McClanahan, a CFP and the founder of Life Planning Partners in Jacksonville, Florida. "A lot of people just don't put money in," she says. "I tell everybody, 'That's, like, one of the best savings tools you can use,' and to max it out, if possible."
HSAs have a unique triple tax advantage: Contributions can be made pre-tax or are tax deductible, the funds grow tax-free, and they can be withdrawn tax-free to cover qualifying medical expenses. Plus, unlike a flexible spending account, any unused HSA funds automatically roll over year to year, letting you accumulate a balance over time.
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True to the name, as a default, your HSA funds are set up as a savings account. But as with a retirement account, HSA money can be invested in mutual funds and other assets. Most people don't take advantage of that option. In fact, 91% of HSA users held their entire account balance in cash, according to a recent Employee Benefit Research Institute analysis of more than 11 million of these accounts.
Here's how to make the most of health savings accounts.
In 2022, Americans will be able to stash away more money in an HSA tax-free. In May, the IRS announced individuals with self-only coverage will be able to save up to $3,650 in an HSA in 2022, an increase of $50 from 2021. Those with family coverage will be able to save $7,300, an increase of $100 from 2021.
HSAs offer catch-up contributions for account holders who are age 55 or older, letting them contribute an extra $1,000 per year. (Once you've enrolled in Medicare, you can no longer contribute to an HSA.)
Some employers offer an HSA match, which could help you set aside even more. If your employer is contributing money towards your HSA, it's counted towards that annual maximum limit set forth by the IRS.
Before you invest any of your HSA money, make sure you keep enough cash in the account to cover your health insurance deductible for one to two years, McClanahan says. That ensures you have funds to tap for any short-term health expenses without needing to sell funds earmarked for long-term goals and expenses.
You can pay yourself back years or decades later in order to let the money in your HSA grow, as long as you keep "meticulous" receipts, she says. In that way, your HSA can act as a kind of extra emergency account.
If you can afford to pay cash for current medical expenses and avoid tapping your HSA, investing the remainder of your HSA in the stock market can be a smart way to help your balance grow over time, McClanahan says. It's important to note that stock market returns aren't guaranteed. If you invest in a diversified portfolio over a long period of time, though, and stay put even during volatility, your money has a good chance to grow, she says.
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If you withdraw HSA funds before you're 65 for nonmedical expenses, you'll pay income taxes on the withdrawal plus a 20% penalty. But once you reach age 65, or if you become disabled, you can withdraw HSA funds without penalty, for any reason. The amount you withdraw for nonmedical expenses is taxable as ordinary income, however. That's why it's important to keep any medical receipts to retain the tax advantage, McClanahan says.
If your current health-care costs are low and you're contributing more to your HSA than you use each year, you can turn your HSA into a long-term investment vehicle for future medical costs. Those could be substantial: Fidelity estimates that the average couple retiring in 2021 at age 65 would need $300,000 to cover health expenses in retirement.
Investing can beat letting your HSA money sit in a low-interest checking or savings account for years, which could mean your funds depreciate in value, thanks to inflation.
There are always risks when it comes to investing in the stock market, and performance isn't guaranteed. Still, on balance, McClanahan thinks it's a risk worth taking, assuming you have plenty of years to go before retirement. "If you're young, you have time on your side," McClanahan says.
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